Beugelsdijk, Brakman, Garretsen, and van Marrewijk International Economics and Business© Cambridge University Press, 2013 Chapter 12 – The Great Recession

Table 12.1 Time line of main events during the Great Recession (2007-2012)

2007 Jan-Jul Massive downgrade of mortgage backed securities Aug Problems in mortgage and credit markets spill over to interbank markets 17 Aug Run on US subprime originator Countrywide 9 Sep Run on UK bank Northern Rock 2008 11 Mar Federal reserve actively promotes liquidity (Term Securities Lending) 16 Mar JP Morgan Chase buys Bear Stearns, with Federal Reserve assistance 7 Sep US Government takes over mortgage institutions Fannie Mae and Freddie Mac 15 Sep Lehman Brothers files for bankruptcy 16 Sep Federal Reserve lends $85 bn to insurer AIG to avoid bankruptcy Oct Financial crisis spreads to Europe 8 Oct Central banks in US, UK, China, Canada, Sweden, Switzerland, and ECB cut

interest rates in coordinated effort to aid world economy 13 Oct Central banks announce system–wide bank recapitalization plans 2009 End Greek government debt 127 per cent of GDP; markets become increasingly

worried about government debt levels 2009 Great Recession: Global economy contracts

Beugelsdijk, Brakman, Garretsen, and van Marrewijk International Economics and Business© Cambridge University Press, 2013 Chapter 12 – The Great Recession

2010 May European Council orchestrates joint rescue operation for Greece by so called

“Troika” (= IMF+EU+ECB). Greece offered a €110 bn loan, conditional on austerity measures to balance government budget

May Creation of European Financial Stability Facility (EFSF); governments provide €750 bn package; financial markets remain critical on government commitment and fear crisis is not tackled ‘head-on’.

Nov Ireland receives €85,-bn loan from EFSF and IMF; interest rates in Southern Europe rise fast (figure 9.5); first signs of contagion

2011 May Portugal receives €78 bn loan from Troika July EU council accepts Greek government debt restructuring: banks holding Greek

government debt will ‘voluntarily’ refinance. Jun-

Aug Troika disappointed, demands stronger measures from Greece in exchange for new €100 bn loan.

Sep ECB increasingly buys existing government bonds; not in line with the spirit of the ECB; question is put before German Constitutional Court

Aug Cristine Lagarde, managing director of IMF, declares ‘banks need urgent recapitalization’

Oct Dexia bankrupt 2012 Sep German Constitutional Court states that bailouts are not violating German

constitution, but demands more parliamentary support. Oct IMF published its bi-annual World Economic Outlook: renewed pessimism

about world economy and Euro crisis, calls effectiveness of fiscal austerity policies into question

Beugelsdijk, Brakman, Garretsen, and van Marrewijk International Economics and Business© Cambridge University Press, 2013 Chapter 12 – The Great Recession

Table 12.2 Extent and duration of per capita income decline during Great Recession

GDP per capita income During # Countries Av. decline (%) Per year (%)

Decline starts in 2008 4 years 4 (2.3%) 14.2 3.5 3 years 6 (3.5%) 7.1 2.4 2 years 22

(12.8%) 7.4 3.7

1 year 6 (3.5%) 3.3 3.3

Decline starts in 2009 3 years 5 (2.9%) 11.4 3.8 2 years 7 (4.1%) 5.5 2.7 1 year 62

(36.0%) 3.8 3.8

No decline in 2008 or 2009

n.a. 60 (34.9%)

n.a. n.a.

Source: author’s calculations based on data from World Development Indicators online for 172 countries; GDP per capita (PPP) in constant 2005 international $; countries with decline have per capita income this year below previous year; av. = average.

Beugelsdijk, Brakman, Garretsen, and van Marrewijk International Economics and Business© Cambridge University Press, 2013 Chapter 12 – The Great Recession

Table 12.3 Classification of Policy Measures

Central Bank—Monetary Policy and Liquidity Support Interest rate change reduction of interest rates Liquidity support reserve requirements, longer funding terms, more

auctions and/or higher credit lines Domestic system

lender of last resort broader set of eligible institutions, wider collateral rules, and/or eligible collateral

Other liquidity support e.g. support of money market funds Foreign exchange

lender of last resort Foreign exchange swap lines (with other central banks) and repurchasing options (see chapter 8)

Beugelsdijk, Brakman, Garretsen, and van Marrewijk International Economics and Business© Cambridge University Press, 2013 Chapter 12 – The Great Recession

Government—Financial Sector Stabilization Measures Recapitalization Capital injection (common stock/preferred equity) Capital injection (subordinated debt) Liability guarantees Enhancement of depositor protection Debt guarantee (all liabilities) Debt guarantee (new liabilities) Government lending to an individual institution Asset purchases Asset purchases (individual assets, bank by bank) Asset purchases (individual “bad bank”) Provisions of liquidity in context of bad asset

purchases/removal On-balance-sheet “ring-fencing” with toxic assets

kept in the bank Off-balance-sheet “ring-fencing” with toxic assets

moved to a “bad bank” Asset guarantees

Source: IMF , Financial Stability Report, October, 2009.

Beugelsdijk, Brakman, Garretsen, and van Marrewijk International Economics and Business© Cambridge University Press, 2013 Chapter 12 – The Great Recession

Table 12.4 Credit ratings of main agencies

Interpretation Fitch and S&P Moody’s

Highest quality AAA Aaa

High quality AA+ Aa1 AA Aa2 AA- Aa3

Strong payment capacity A+ A1 A A2 A- A3

Adequate payment capacity BBB+ Baa1 BBB Baa2 BBB- Baa3

Likely to fulfill obligations, ongoing uncertainty

BB+ Ba1

BB Ba2 BB- Ba3

High-risk obligations B+ B1 B B2 B- B3

Vulnerable to default CCC+ Caa1 CCC Caa2 CCC- Caa3

Near or in bankruptcy or default CC Ca C C D D Source: IMF (2010)

Beugelsdijk, Brakman, Garretsen, and van Marrewijk International Economics and Business© Cambridge University Press, 2013 Chapter 12 – The Great Recession

Table 12.5 Gross capital inflows to Chile (millions of US $)

Year Short-term flows % of total Long-term flows % of total deposits*

1988 916.6 96.3 34.8 3.7 - 1989 1452.6 95.0 77.1 5.0 - 1990 1683.1 90.3 181.4 9.7 - 1991 521.2 72.7 196.1 27.3 0.58 1992 225.2 28.9 554.0 71.1 11.4 1993 159.5 23.6 515.1 76.4 41.3 1994 161.6 16.5 819.7 83.5 87.0 1995 69.7 6.2 1051.8 93.8 38.7 1996 67.2 3.2 2042.4 96.8 172.3 1997 81.1 2.8 2805.8 97.2 331.6 Source: Edwards (2001, Table 2); * = deposits held at Banco Chile, due to reserve requirements